Litigation - cost of litigation to US businesses - includes related articles - CE Roundtable - Panel Discussion

Chief Executive, The, Jan-Feb, 1995 by Lorri Grube

Horror tales of lawsuits rival anything in a CEO's nightmare. Despite repeated calls for tort reform over the last 70 years, the litigation vampire roams at will. Is it time for business to choose a different stake?

A pilot named Edward Cleveland and the company he worked for had a record of unsafe flying when they were hired to film a commercial. Cleveland replaced the front seat of his Piper with a rear-facing camera. The cameraman squeezed behind the camera with his back covering the instrument panel and front window. Cleveland was to fly the plane from the rear seat. The plane crashed before it ever got off the runway, and the pilot was injured. Cleveland's lawyer sued Piper Aircraft and won over $1 million, arguing that the plane's design was defective, because it was impossible for the pilot to see out the front window while flying from the back seat.

Such judgments are no longer isolated cases. According to the Organization of Economic Cooperation and Development, the proliferation of litigation in the U.S. exacts a stiff economic penalty. OECD estimates that direct and indirect legal costs in 1987 amounted to 2.7 percent of our GDP, compared with 0.5 percent to 0.7 percent for other OECD countries. Not all lawsuits are frivolous, but business leaders reckon too many are. Almost half the respondents to the CE/Deloitte & Touche LLP survey of 800 CEOs and CFOs (CE: November/December 1994) report that liability-prevention measures tack at least 5 percent onto the price of products and services; more than a quarter say the premium is closer to 15 percent. These are only the visible costs. Many argue that the lack of risk predictability and large settlements inhibit innovation and depress product output, not to mention employment (see "Capital Ideas" column, this edition).

For some companies, the cost is staggering. For example, Wilmington, DE-based DuPont Chemical spends $75 million a year to defend itself in an average 4,500 lawsuits. Schaumburg, IL-based Motorola, which prides itself on aggressively managing legal costs, has spent more than $15 minion since 1991 defending itself in a single pollution case, and the meter is still ticking. Keene Corp. Chairman and President Glenn W. Bailey, a roundtable participant, says his New York-based company has paid more than $400 million to resolve asbestos claims stemming from its unprofitable $8 million investment 26 years ago. Lawyers have soaked up $265 million, or two-thirds of the total bill. Sixteen of its co-defendants have gone bankrupt. Under the joint and several liability rule, the last company standing is on the hook for all judgments against all defendants.

CE organized the following roundtable in cooperation with Deloitte & Touche LLP to help CEOs identify ways to staunch the bleeding, protecting shareholders, employees, and themselves. The timing is perfect: The recent midterm election promises to thrust tort reform into the national spotlight. Separately, Sen. Phil Gramm, a Texas Republican and a presidential hopeful told CE that "lawsuit reform," as he calls it, will receive high priority in the 104th Congress as one of the 10 planks of his party's "Contract with America." Gramm says this would include a "loser pays" rule, restrictions on "junk science" as admissible evidence, punitive damage limits, and product liability and shareholder suit changes.

In the following exchange, Hudson Institute fellow Michael Horowitz - who along with Lester Brickman of the Cardozo Law School has been developing a reform proposal to incentivize early settlements and limit contingency fees - chided business leaders for their unsuccessful efforts on tort reforms. The effort to limit or eliminate existing rights - however dysfunctional they may be - cede the moral high ground to consumer champions, defenders of the status quo, Horowitz argues. By contrast, he challenges insurance companies to offer two classes of coverage and services - one of which builds in a premium based on liability costs. In essence, this would allow consumers to decide whether "the rights" the system purports to provide are worth their out-of-pocket costs.

Sue Cities

Bill Ezzell (Deloitte & Touche LLP): Some people say all it takes is an allegation, $100, and a contingency-fee attorney to sue a U.S. company for millions or even billions of dollars. It's been estimated that more than $300 billion is spent annually on litigation involving environmental claims, product liability, class-action securities suits, medical malpractice, and Americans with Disabilities cases.

A recent American Stock Exchange study revealed that 75 percent of U.S. companies are reluctant to disclose financial information because of the threat of litigation. Some 62 percent of the companies that went public in 1986 have been sued for securities fraud. Is it possible that almost two-thirds of the companies that go public engage in securities fraud today? Among New York Stock Exchange companies, 1 in 8 is sued for securities fraud every five years.